Martin lives for two periods, earning $50,000 in income in period 1, which he consumes or saves for period 2. The interest rate on his saving is 10% per year. Interest income is taxed at rate τ = 30%.
(a) Draw Martin’s intertemporal budget constraints with and without tax. Label all intercepts and slopes on your graph.
(b) Suppose that Martin saves $15,000 if there is no tax on saving. With tax, the income and substitution effect exactly cancel out so that the tax has not effect on his savings. Draw a set of indifference curves consistent with this response.
(c) What is Martin’s after-tax consumption in period 2?